TiVo Inc. F2Q10 (Qtr End 7/31/09) Earnings Call Transcript

Aug.27.09 | About: TiVo Inc. (TIVO)


F2Q10 Earnings Call

August 26, 2009 5:00 pm ET


Derrick Nueman - Investor Relations

Tom Rogers - Chief Executive Officer

Anna Brunelle - Chief Financial Officer

Matt Zinn - General Counsel


Alan Gould - Natexis Bleichroeder

David Miller - Caris & Company

Tony Wible - Janney Montgomery

Barton Crockett - Lazard Capital Markets

Daniel Ernst - Hudson Square Research

James Ratcliffe - Barclays Capital

Mark Argento - Craig-Hallum Capital

Tuna Amobi - Standard & Poors

Todd Mitchell - Kaufman Bros.


Hello and welcome to the TiVo second quarter fiscal year earnings conference call. Today's conference is being recorded.

The speakers for today's conference are going to be Tom Rogers, Anna Brunelle, and Derrick Nueman.

At this time I'd like to turn the conference over to Derrick Nueman. Please go ahead, sir.

Derrick Nueman

Thank you and good afternoon. I'm Derrick Nueman, TiVo's head of Investor Relations. With me today are Tom Rogers, CEO, Anna Brunelle, CFO, Naveen Chopra, VP of Business Development and Strategy, and Matt Zinn, General Counsel.

We are here today to discuss TiVo's second quarter results ending July 31, 2009. We have just distributed a press release and 8-K detailing our financial results. We have also released a financial and key metric summary, which is posted on our Investor Relations website.

Additionally, we will post a recording of this call later today on the Investor Relations website.

Our prepared remarks should take 30 minutes today and then we'll have a question-and-answer session after.

Our discussions today include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements relate to, among other things, TiVo's future subscriptions, advertising and research business, profitability, operations and financial performance, guidance and subscription growth, distribution of the TiVo service domestically with Comcast, DIRECTV, RCN and Best Buy, and internationally in Australia, New Zealand and other locations, TiVo's current and future service features and product releases, partner initiatives, the current U.S. PTO re-exam of the TiVo Time Warp patent, and TiVo's ongoing litigation with Echostar and others.

You can identify these statements by the use of terminology such as guidance, believe, expect will or similar forward-looking terms. We caution you not to put undue reliance on these forward-looking statements as they involve risks and uncertainties that may cause actual results to vary materially from the forward-looking statements.

Factors that may cause actual results to differ materially include delays in development, competitive service offerings, lack of market acceptance as well as other factors described in the risk factors in our public reports filed with the SEC in our latest 10-K and 10-Qs.

Any forward-looking statements made on this call reflect analysis as of today and we have no plans or duty to update them.

Additionally, some of the metrics and financial information provided on today's call are non-GAAP measures. Please see the second quarter fiscal year 2010 key measure trend sheet for a reconciliation of these items.

With that, I will now turn over the call to Tom Rogers.

Tom Rogers

Thanks, Derrick, and thanks, everybody, for joining us on a late summer afternoon.

TiVo continued its strong financial performance in the second quarter as we recorded our eighth straight quarter of adjusted EBITDA profitability and exceeded our earnings guidance. We made significant progress on developing partnerships that will enable us to access previously untapped distribution opportunities, announcing important deals with Best Buy and RCN.

Our audience research and measurement business continues to prove why it will be a model that supports the future of the television advertising world as we launch local market ratings and announce an important partnership with Comcast.

Finally, our intellectual property was validated yet again as Echostar was found to be in contempt in the United States District Court for the Eastern District of Texas.

All of this forward momentum, coupled with a balance sheet that remains very strong, with about $238 million in cash, positive operating cash flow in the second quarter and no debt, ensures that TiVo remains on solid financial footing as we enter the third quarter. Before I get into the specific highlights of the second quarter let me briefly touch on today's court filings versus AT&T and Verizon.

Our relationship with Best Buy, RCN, Comcast, DIRECTV are demonstrations of the significant strategic value that the TiVo experience, technology and brand brings to key players in the entertainment universe. Despite differences in implementation strategy, these partners have all found compelling commercial benefits in the distribution of TiVo to their customers.

Unfortunately, there are multi-channel operators who compete with us through the unauthorized use of our investment portfolio. Echostar has been a prime example of this, and we have recently found ourselves in a similar situation with AT&T and Verizon, where business agreements have not been reached yet we need to stop their continued use of our intellectual property. Today we filed complaints in the United States District Court for the Eastern District of Texas against AT&T and Verizon for infringement of several TiVo patents, including the Time Warp patent. We are confident in the court's ability to move quickly to stop the unauthorized use of our patents by AT&T and Verizon. As such, our complaint will seek damages for past infringement and a permanent injunction similar to that issued by the District Court and upheld by the federal circuit against Echostar.

While this action plays an important role in ensuring that our shareholders realize the full value of our intellectual property, it does not shift our focus from creation of strategic relationships where our partners profit due to lawful distribution of our core DVR technology and other technologies which include a fully integrated suite of services, including interactive advertising, audience measurement, universal search, next generation user experiences, broadband content delivery, etc., etc.

Speaking of distribution relationships, I'd now like to describe some important new initiatives we've put in place this quarter.

We continue to make progress by expanding the TiVo footprint and delivering on our ongoing promise to serve an increasingly important role as an innovator not only for consumers but also for distributors and multi-channel operators of all sizes that are looking to offer their subscribers truly differentiated video products.

In addition to our ongoing efforts with large multi-channel operators, which I'll discuss shortly, we have made it a specific goal to assist small and medium-sized cable operators that cannot make the significant investments in new products necessary to compete.

As the latest tangible result of this goal, we announced this quarter that RCN, a cable overbuilder that passes 1.6 million homes in Boston, Chicago, New York, Philadelphia and Washington, D.C., has chosen the TiVo HD DVR product as its primary DVR offering, becoming the first U.S. cable provider to utilize both TiVo's innovative hardware and software platforms. The new TiVo/RCN DVR will be based on our stand-alone platform, which does not require working through the middleware and infrastructure complexities that our mass distribution deployments do.

While this is indeed great news for both RCN and TiVo, the real benefactors here are RCN's customers, who, with the rollout of this new offering only months away, will soon be able to utilize a seamless experience that fully integrates RCN's linear and VOD service with a complete array of TiVo-delivered broadband content, thereby enjoying an entertainment package via TiVo's user interface and easy-to-use remote that goes well beyond what other cable and satellite providers can currently offer.

Now, on to our work with the larger MSOs. Our partnership with Comcast is progressing. Mark Hess, Comcast Senior Vice President of Video Products said recently, quote:

"As anticipated, TiVo's online scheduler has started its early rollout in our Boston market. We're also excited about launching the TiVo product beyond our Boston market and are now in the initial preparation phases for taking the Comcast TiVo product to an additional yet-to-be announced market, as well as for our previously announced plans to offer it as the primary DVR option in another yet-to-be-named market."

Additionally, the new DIRECTV HD DVR remains on track for its rollout, and as we stated previously, once launched it will be immediately accessible to DIRECTV's entire national customer base.

With regard to international distribution, we continue to expand our global footprint through tactical alliances with important international broadcasters. We have now come upon the one-year anniversary of our successful launch with Australia's seven network subsidiary, Hybrid Television Services. And earlier this year TV New Zealand, New Zealand's largest free-to-air and national broadcaster, took an equity stake in Hybrid Television Services, paving the way for the promotion and distribution of TiVo in New Zealand by the end of 2009.

We continue to focus on international players that allow for near-term implementation. We are looking to avoid international deals that potentially have lengthy drawn-out rollouts involving cumbersome middleware, steering clear as much as possible of the issues we have encountered with the domestic cable industry.

Shifting gears to the TiVo-owned side of the business, this past quarter we entered into a strategic alliance with Best Buy designed to drive greater distribution of TiVo products, including our stand-alone box and our user experience, while providing Best Buy with a digital platform in the home to expand its customer relationships beyond the store cash register.

According to Chris Homeister, Senior Vice President of Entertainment at Best Buy - and I'm quoting here - "Best Buy and TiVo together will open up a variety of new ways for consumers to get the most out of their entertainment experience, have more digital content choices, and get on-demand access to Best Buy's trusted perspective in consumer electronics. TiVo's award-winning user interface and its ongoing innovation provides a unique combination of factors for Best Buy to further build its digital home presence," end quote.

As part of this deal, TiVo and Best Buy are together working toward the development of new user interface features for TiVo DVRs sold by Best Buy, which will build upon TiVo's seamless integration of broadcast, cable, and broadband content on the television set. Additionally, we are working with Best Buy to integrate our user interface, search and other unique TiVo features into their exclusive brands of televisions, assuring that they remain at the forefront of new digital home entertainment offerings. As proof of their commitment, beginning early next year Best Buy will be putting substantial marketing muscle behind this relationship as newly innovative features are rolled out.

This quarter TiVo also significantly enhanced another important and growing component of our suite of content services, providing a way for branded channels on the web to be brought to the television set with the look and feel of television using industry standard really simple syndication - RSS - and H.264 video. This brings the addition of hundreds of new free web videos available directly to many TiVo subscribers as well as the ability for any video podcast provider to publish video content right to TiVo DVRs.

Currently, hundreds of new channels are being added to TiVo's suite of free web videos, including mainstream outlets such as CBS, Fox and Oprah, with programs and clips ranging from the CBS Evening News, 60 Minutes, and the Fox Report with Shepard Smith to Oprah.com's Money Channel with Suzi Orman.

Also, moving forward to the intellectual property front, we scored a significant victory this quarter when Echostar was found to be in contempt by the United States District Court for the Eastern District of Texas. Echostar is currently appealing the contempt order. The court of appeals stayed the injunction while it considers the appeal. We expect that there will be hearing on this matter in the November timeframe.

Along with the contempt order, TiVo was also awarded $103 million in damages covering the original appeal stay period, which covered the period from September '06 to April '08. The United States District Court for the Eastern District of Texas is currently assessing the appropriate sanctions for the contempt period, which began on April 18, 2008.

Despite Echostar's efforts to delay the hearing on these sanctions, the court held the hearing and indicated it would rule in the relatively near future. We remain confident in our position and look forward to getting resolution both on Echostar's appeal and on the contempt sanctions.

On a smaller note, while Echostar has trumpeted a recent initial office action by the Patent and Trademark Office rejecting two claims of Time Warp patent in a second re-exam, the fact is we have not yet presented any information at all to the examiner in connection with the review. As was the case with the first examination, once we present our view we confidently believe that the PTO will reaffirm the validity of the challenged patent claims once again. Despite Echostar's attempts, we do not expect the PTO proceedings to have any impact on Echostar's appeal.

Moving along to our research business, there are now five specific ways that TiVo brings value to audience research that no one else is bringing to the table and two of which we launched this quarter.

Our existing research offerings, just to review, include, first, Stop||Watch, a national sample based on a combination of live and time-shifted viewing, including commercials, on a second-by-second basis.

Second, Power||Watch, a sample that provides insights that go much deeper into audience characteristics, including such things as far-ranging as political party affiliations, house ownership, car ownership, as well as many other elements that can create a full demographic and psychographic profile.

Third, with TRA we have the ability to anonymously look at a single household and see its second-by-second commercial viewing and then know what the household is buying at the supermarket as a result of that viewing.

And now, fourth, our Stop||Watch local markets rating service, which we first unveiled this quarter in three markets - San Francisco, Orlando, Tucson - and in conjunction with this development we expanded the size of our audience sample this quarter from 100,000 to 250,000, on its way to 300,000, which will make TiVo's sample size 75 times greater than the most widely used audience sample today. The lack of electronic data and the overwhelming number of local TV markets is mind boggling given the fact that television stations have been broadcasting now for over 60 years.

And fifth and last, our partnership with Comcast, which we announced this quarter, provides advertisers and media companies with the ability for the first time to measure all the television and online video consumption from a single household anonymously. Importantly, through the data we will be able to answer whether online video consumption and television viewing are complementary or if one adversely affects the other.

With these five research products and more to come, we continue to pioneer actionable audience measurement solutions that will help the television industry more effectively market itself against other options such as the Internet, where audience consumption data is far ahead of what's available to television marketers. The television industry has had antiquated and ineffective methods for far too long. While our groundbreaking measurement data is being viewed in a climate where money for research from potential clients is obviously being cut way back, we remain very confident there will be substantial appetite for these products going forward.

So in conclusion, we enter the third quarter with significant opportunities and with meaningful accomplishments across many fronts. We continue to reach previously untapped television viewers. Our successful expansion internationally is going strong. We're creating even more valuable solutions and tools for advertisers, all while protecting our very significant intellectual property and fortifying our financial position. We are poised to keep this positive momentum on track and look forward to ongoing growth in all areas of our business.

And with that I'll turn it over to Anna.

Anna Brunelle

Thank you, Tom. Good afternoon, everyone.

I am pleased with our second quarter results. As Tom mentioned, it was our eighth straight quarter of adjusted EBITDA profitability and we exceeded our expectations on earnings. With that, let's get into the details.

Service and technology revenues were $48.8 million. Of that, service revenues were $41.5 million and technology revenues were $7.3 million, up from the prior quarter due to increased development work on our mass distribution deployment.

Total share-based compensation expenses for the quarter were $6 million. This quarter total stock-based compensation expenses for each line item can be found at the bottom of the income statement attached to our earnings press release. Excluding the related stock-based compensation expenses, cost of service and technology revenues were $14.8 million, which included $9.5 million related to cost of service revenues. The service gross margin excluding share-based compensation was 77%.

Our hardware loss was $4.4 million and consisted of $2.6 million of loss related to net hardware costs and $1.8 million of costs related to marketing development funds and revenue share from the retail channel.

Operating expenses excluding share-based compensation as a percentage of service and technology revenues were as follows: Sales and marketing expenses were 12%, flat from the year ago quarter. The portion of sales and marketing expenses related to subscription acquisition costs represented 2% of service and technology revenues. Research and development expenses were 26% of service and technology revenues and G&A expenses were 18%.

In addition to share-based compensation expenses, adjusted EBITDA also consisted of interest and other income of about $200,000 and depreciation and amortization expenses of $2.3 million. This led to net loss for the second quarter of $2.9 million, which compared to our guidance of a net loss of $6 to $8 million and to net income of $2.9 million in the year ago quarter.

Our net loss per share was $0.03 for the second quarter. Our net income per share calculation for the quarter was based on 106 million shares.

Our adjusted EBITDA for the second quarter was $5.2 million compared to guidance of breakeven to $2 million and $10.6 million in the year ago quarter.

The better-than-anticipated adjusted EBITDA and net loss was primarily driven by lower-than-expected operating expenses as we continued to carefully watch discretionary spend and as legal expenses were lower than we had forecasted.

Quickly touching on the balance sheet, we generated roughly $5 million of cash from operations and we ended the quarter with approximately $238 million in cash and short-term investments, up significantly from the prior quarter due to a large amount of employee option exercises in the quarter. Note that our cash position does not include the $103 million of damages that were awarded to us from Echostar for the period of September 2006 to April 2008, which is currently being appealed by Echostar, or the damages for the contempt period post-April 2008 that we expect to hear about soon.

Now turning to our second quarter key metrics, in line with our expectations, our gross subscriber additions were 31,000 as compared to 36,000 in the year ago quarter. Churn was 1.5%, flat with the year ago quarter and slightly up compared to the first quarter. We saw a decrease in non-lifetime churn in the quarter, but saw an increase in churn of product lifetime subscribers that were already fully amortized and therefore non-paying subscribers.

On a net basis, our TiVo-owned subscriptions decreased by 42,000 in the second quarter and our TiVo-owned subscription base ended the quarter at approximately 1.6 million subscriptions.

Our MSO broadcaster subscription base declined by 104,000 from the prior quarter. We expect that our mass distribution declines will continue until DIRECTV begins deployment of our new DIRECTV/TiVo HD DVR and Comcast deploys in multiple markets.

Our overall subscription base stands at approximately 3 million subscriptions at the end of July. Our TiVo-owned average revenue per subscription fell year-over-year to $7.73, primarily due to our longer amortization period and a larger number of fully amortized product lifetime subscriptions that once fully amortized are non-revenue generating.

At the end of the quarter we had approximately 219,000 TiVo-owned product lifetime subscriptions that had reached the end of the revenue amortization period. This represents 34% of our total product lifetime subscription base, which stands at 652,000 subscribers.

TiVo-owned total acquisition costs were $5.3 million, roughly flat with both the prior quarter and year ago quarter. SAC was $172, roughly flat with the year ago quarter when you take into account the $1.4 million net benefit of the inventory reserve, which significantly reduced SAC in the year ago quarter.

Again, I should reiterate what we said on our last call. We will continue to manage subscription acquisition expenditures aggressively, but we wont' benefit as much in fiscal 2010 from the release of standard definition inventory reserve, which reduced our acquisition costs by approximately $5 million during fiscal 2009.

Before I get into the specific guidance for the third quarter let me walk you through some factors that are impacting our guidance.

First, we expect to incur substantially higher legal costs than in the year ago quarter as we anticipate continued activity in the Echostar litigation and given our new actions. It should be noted that there will be a more material increase in legal costs once discovery on the new actions begin.

Second, as I stated before, going forward we don't anticipate significant benefit from the release of the standard definition inventory reserve, especially compared to the $1.4 million benefit in the year ago quarter.

Third, we expect to incur higher retail selling costs. These costs are related to getting our product into a large portion of Blockbuster's 4,000 stores as well as shipments to other retailers ahead of the holiday season.

And finally, year-over-year comparisons for net income and adjusted EBITDA will be complicated by the $104.7 million in litigation proceeds and related interest that we recognized in the year ago quarter.

With that, for the third quarter we expect service and technology revenues of $46 to $48 million, our adjusted EBITDA to be in the range of negative $2 million to breakeven, and our net loss in the range of $8 to $10 million.

To wrap up, I'm pleased with the quarter and the progression of our business. We continue to drive positive adjusted EBITDA while investing in our future. Our balance sheet remains very strong, with $238 million in cash and short-term investments and no debt.

This concludes my remarks. Thank you for your time and we'll now take questions.

Question-and-Answer Session


Thank you. (Operator Instructions) Your first question comes from Alan Gould - Natexis Bleichroeder.

Alan Gould - Natexis Bleichroeder

Two litigation-related questions: Tom, what's the benefit of announcing the lawsuit now against AT&T and Verizon as opposed to waiting for the next step of the Echostar trial to occur?

And related to that, have we gotten a court date for the appeals court hearing for the Echostar trial?

Tom Rogers

Taking your second question first, we haven't gotten the specific court date. Our expectation continues to be some time in the November timeframe on the Echostar appeal.

As to your first question, we're not going to give you very much here in terms of our thinking on litigation strategy, so what I have to say may not be very satisfying in terms of your specific question. I will simply say that attempts were made to reach a commercial arrangement. They were not reached. We believe we are being caused irreparable harm and every day that goes by that harm increases. We feel that we have to stop this, that we are quite confident that the court in the Eastern District, which is familiar with our issues, can move relatively quickly here and that pursuing damages and a permanent injunction at this time is the right move for us to make.


Your next question comes from David Miller - Caris & Company.

David Miller - Caris & Company

Just a related question. I think all of us were sort of under the impression that you guys wouldn't move to sue any other party until the DISH proceedings were finished and obviously the DISH proceedings are not finished, so the fact that you're moving down the line here and pursuing litigation against AT&T and Verizon, at least in my opinion, connotes a certain level of confidence about the way this is all going to flow through once we get into November. Tom, could you comment on that at all?

And also, related to that, is there any difference in the patent infringement between what AT&T has infringed upon and what Verizon has infringed upon or is it pretty much the same?

Tom Rogers

Well, again, I'm not going to explain our specific reasoning as to timing. I will say that our confidence in the Echostar appeal is very high. The briefs have been filed now. We filed our appellate brief yesterday; I refer anybody to it to underscore the degree of our confidence given the issues before the court. And with that confidence we believe that this action at this time makes sense.

In addition to what we are suing AT&T and Verizon on with respect to the Time Warp patent, which is the patent that we have sued Echostar on, we are also suing AT&T and Verizon on two other patents - a Time Warp continuation patent, which is an additional patent dealing with multimedia streams, and a third patent dealing with overshoot correction - and the combination of infringement of all three of those patents is the essence of our actions there.


Your next question comes from Tony Wible - Janney Montgomery.

Tony Wible - Janney Montgomery

I was wondering if you guys will be using the same patent attorneys for the case on AT&T and Verizon?

Tom Rogers

Well, I think that will become apparent and we'll I think not comment on that at this point.

Tony Wible - Janney Montgomery

Okay. Moving away from litigation, what was the current DTA balance and NOL balance at the end of the quarter?

And then also, Tom, I was hoping to get your comments on Nielsen and some of the networks this past quarter seemingly pushing back against Nielsen, but a week later you had Time Warner signing, I think, a three-screen deal with them. I wanted to figure out what you made of that and does that speak positively for your monitoring service?

Tom Rogers

Let me take your second question first and then I'll hand it over to Anna.

We are not looking to dislodge the Nielsen data as the key currency for advertising ratings negotiations and that is essentially why all media companies continue to need that data and you will see additional deals announced for that data that may have some ancillary elements to them.

Our goal is to fill all kinds of voids that the Nielsen data has in the marketplace that range from local ratings data, which we've addressed this quarter by introducing a local ratings product which for the vast majority of markets, as I said in my statement, there is still not electronic data available; diary data is still the basis. There is a huge interest in coming up with an understanding of how television is consumed between the computer screen and the television screen, and while there are various estimates as to what people watch where, how and how long, for the first time we'll be able to assess that coming out of the very same home.

And other key holes in that data - its already been recognized we have a vastly improved data set, vastly increased sample size - and it's around those holes in the Nielsen currency that we are building our business. So the fact that Time Warner announced a deal with Nielsen is not surprising at all. And the fact that there are calls for supposedly a consortium of media companies interested in coming up with more useful data that crosses various means of video consumption and not limited to television is not surprising at all either, and to date we are way ahead of others in terms of being able to satisfy that kind of need.

Tony Wible - Janney Montgomery

And the NOL balance?

Anna Brunelle

With regard to your question on NOLs, we don't currently give guidance either on a quarterly or an annual basis on that number; however, we have said in the past that we do think it's safe to say that we expect to achieve a healthy adjusted EBITDA profitability in this current fiscal year and that excludes any benefit that we may receive from Echostar litigation in the current year.

Tony Wible - Janney Montgomery

Okay. The Best Buy deal that you have, any promotions that are contemplated around the holiday with that new deal?

Tom Rogers

Without specifically contemplating on any marketing promotion, I would say the essence of that deal is geared toward early next year, where some product improvements and developments that we will be putting forward will be able to be wrapped into the overall strategic marketing relationship with Best Buy, so the guts of the relationship will really get under way then.


Your next question comes from Barton Crockett - Lazard Capital Markets.

Barton Crockett - Lazard Capital Markets

On your relationships with the MSOs, it sounds like you're really emphasizing the set top box alternative like you have with RCN, like you're doing in New Zealand, over middleware and I'm just wondering if I'm reading that correctly, in future deals if you going to try to lean more on set top as opposed to middleware maybe as a way to avoid the problems, and if you do that is there any difference in the economics for you guys from that?

Tom Rogers

Well, we are highly committed to our existing deals that are not TiVo hardware based, so I don't want to suggest in anyway otherwise.

But going forward, yes, we are cognizant of the various challenges posed by the combination of middleware and new infrastructure issues, and given that our priorities are advancing our distribution base as quickly as possible and those kind of arrangements involve our use of resources in a way which by definition involve much longer hauls and not as quick a deployment opportunity with a multi-channel operator, our view is going forward we'd much prefer deals that don't involve those challenges.

And the RCN deal is a perfect example of a type of deal that is much easier in terms of moving toward deployment. It's based on our retail box, but it gives the cable operator all the strategic benefits of their service and our service combined into a single seamless integrated product for the consumer.

And we've had significant interest since that announcement from other operators looking for that approach. Based on the Australian and New Zealand model there is significant interest internationally in that kind of approach and it is fair to say that we'd like to prioritize our attention in that direction as much as possible.

Barton Crockett - Lazard Capital Markets

Can you make any comment on the monthly fees from a set top box arrangement versus software or middleware? Is there any meaningful difference that we should assume?

Tom Rogers

Well, I guess it's fair to say that those deals that we have done that have involved the hardware component are higher-fee deals for us relative to other deals, but I don't necessarily want to suggest that that's a function of hardware necessarily being involved. That also obviously has to do with the size of the deployment agreement, the size of the operator that's involved. But certainly our view is that there's no disadvantage to our mass deployment economics for pursuing it along the lines of hardware/software combinations.

And I don't want to suggest there's only one formula for those combinations. There are many ways for our TiVo to be resident in hardware so that we have much flexibility to meet the interest of various operators as opposed to dictating a single approach as to how that might be done, so it still gives us many ways to be flexible relative to the needs of operators. But there's certainly no disadvantage to the economics and to date its been a more advantaged approach economically.

Barton Crockett - Lazard Capital Markets

I wanted to ask about a meaningful company in Texas that you're not suing right now but you don't have a deal with and that's Time Warner. Can you update us on your relationship there and any discussions that might be under way on potentially working with them?

Tom Rogers

Well, I'm not going to comment on any specific party with respect to the question of litigation.

I will say that we've obviously had ongoing conversations with Time Warner and by virtue of what we've done with the cable industry, various cable companies to date, it's clear that there are many ways to craft an arrangement that we think is beneficial for both us and the cable operator and continue to be quite open to pursuing those arrangements.


Your next question comes from Daniel Ernst - Hudson Square Research.

Daniel Ernst - Hudson Square Research

Looking at the comments, Tom, that you made in the beginning of the call and certainly the press release and everything you've been announcing over the last several months, you have, in my seven years of coverage, with TiVo, I think, the longest list of potential things coming down the pike for you from obviously Echostar in November, Comcast hopefully rolling out in earnest, DIRECTV coming back online - it sounds like a new focus. And developments on the international front, always the advertising feature, Best Buy - I'm at a point where I'm actually starting to forget things on the opportunities.

But TiVo's always had a large number of opportunities, so what of those opportunities do you have the most conviction in providing some addition to the bottom line over the next 12 to 18 months? I realize it's one of those questions where it's which of my children do I love the most, but at the end of the day you've got to prioritize so there's a lot of things you're working on with a small company, so what are the things that you think that we should be looking at, that have the most potential that we should be tracking the closest?

Tom Rogers

Well, as a father of three, as you well know, you can't even think in terms of which of your children do you love most.

The issue that you leave off the table is what are all the things that you aren't doing that obviously we don't bring to the floor but are constantly prioritizing in terms of direction in our use of resources so that the things that we do do we can bring full commitment to.

Whether it's a DIRECTV or a Comcast or a Best Buy, having the leading satellite provider, the leading cable operator, the leading retailer as key partners you put your full force and emphasis behind all of those relationships.

We certainly have to craft what we do internationally carefully because there are so many different types of players, so many different configurations that if we try to approach all possible deals that we wouldn't be able to do what we do decide to do as well. Clearly, you've heard an overall filter that we're trying to apply now, which is where going forward there are opportunities that we think we can pursue that don't involve the challenges of middleware and infrastructure that are there and easier for us to implement. We're certainly prioritizing those over other opportunities.

We overall are highly mindful of the fact that we have taken down our headcount about 10% over the last year and yet, as you say, have created probably more catalysts for growth and opportunities going forward than this company has ever had. And while we have not put it up on the scoreboard yet in terms of additional subscribers, we have a lot of things that are certainly poised for very substantial growth.

And we think that we are doing the smart things of making the choices we need to make, finding the right way to use our resources without greatly expanding overhead and, in fact, we've been able to do this while taking overhead down. And being very mindful that to serve consumers and the B2B side of advanced television there are certain core elements that you need to present to be a full provider, and we think we're executing on that very well.

But what you don't see are all the opportunities that we decide not to pursue. Obviously, the ones that we do we pursue with full vigor.


Your next question comes from James Ratcliffe - Barclays Capital.

James Ratcliffe - Barclays Capital

Again on litigation, I'm wondering if you can give us some insight on why you didn't choose to include the set top box manufacturer, Motorola, in either the AT&T or Verizon suits. It would seem to me if you're using the hardware patent that they would be involved at least in some way.

Tom Rogers

Well, again, I'm not going to comment on litigation strategy as it relates to specific parties.

I will say that as a general matter we have been pursuing commercial relationships with multi-channel distributors. That has been our focus.

And you can take away anything you want to from that comment, but I'm not going to be able to offer you any insight into specific companies.

James Ratcliffe - Barclays Capital

As a follow up - maybe the same sort of answer - but I'm just wondering, are you at all concerned that in the event that it turns out that Motorola has indemnified either Verizon or AT&T for any litigation issues related to the set top boxes that you could face countersuits from Motorola based on Motorola's patent portfolio?

Tom Rogers

Well, again, I'm not going to tell you our litigation strategy. There are obviously a lot of issues that litigation involves and a lot of variables that are weighed and, again, we are seeking both damages and an injunction here and the injunction is to stop the multi-channel distributors at issue from continuing to deploy the imprinting product so that gives you a pretty good idea of what we're after.


Your next question comes from Mark Argento - Craig-Hallum Capital.

Mark Argento - Craig-Hallum Capital

A quick question around additional Comcast markets and the technology issues that you've found [inaudible] Boston, if those have been mostly resolved, and going forward do you feel pretty comfortable you'll be able to - or Comcast will be able to -- rollout a little bit more quickly?

Tom Rogers

Well, I feel very comfortable about the desire and motivation of Comcast. I think they are truly committed to the deployment of advanced television, TiVo's contribution to that goal, and the fact that true two-way is their next phase of getting there.

They continue to work through in Boston the infrastructure issues that particularly relate to the installation in individual homes. And I can't say they are where they want to be yet; there are clearly things that Comcast needs to solve for both TiVo and for themselves so the product can be more smoothly installed. They are totally committed to solving those issues and we believe they will be solved in the near future. Obviously, there's frustration on both their part and ours that it's not quite solved yet.

But I think, as Mark Hess's quote indicated, the commitment to continue to roll TiVo beyond the two named markets that we've mentioned, they indicated in last quarter earnings that they were focused on a market rollout where TiVo would be the primary DVR and then again today have announced yet another yet to be soon-named market.

So the combination of all of that shows that there is a continued rollout on their part, a continued rollout plan on their part, and we have every expectation that this infrastructure challenge will be overcome soon.

Mark Argento - Craig-Hallum Capital

And then shifting gears over to RCN, Best Buy, some of the newer relationships and deals you guys put to the tape this past quarter, should we expect any additional development costs from these relationships in terms of costs being borne by you right now? I think roughly 25% of your revenues right now are going towards R&D. Are these costs going to be able to be absorbed in the current $60 million a year R&D run rate or should we expect that to tick up here as more of these deals come online?

Tom Rogers

Well, certainly there is R&D development work that we undertake with additional partnership and distribution deals. Most times much of that R&D work is covered by the relationship with the partner so, while we are expending resources, those R&D expenses are often largely recoverable.

When we're dealing with the stand-alone boxes, as the case with the RCN deal, it's a relatively modest amount of development work. When we're dealing with the improvements to the UI and other things that we're looking forward toward Best Buy, similarly I would characterize those as moderate in the scheme of development.

So those lead to the possibility of additional R&D expense but, as I've said, largely we look to a partner to offset or contribute toward those expenses.

There are other R&D opportunities that we may wish to pursue as a growth matter that could involve additional R&D costs, so I don't want to give the impression that R&D should be looked at as static forever since those are certainly possible uses of our cash to grow our business in ways that we think would accelerate our overall financial plan. So those are kind of the buckets that we look at as we assess the overall R&D equation.

Mark Argento - Craig-Hallum Capital

Have you guys thought about repositioning the TiVo box, the consumer TiVo box, as more of a media server and less of, just say, a pure DVR? Because when you really look at the functionality and interfaces and with the web applications and also the music applications, video, it's really more of a media server, an appliance versus just a pure DVR, and I was just curious if you guys had ever really contemplated re-launching or really taking a look at marketing it as more of a server product, kind of expanding the usage, at least in the minds eye of the consumer?

Tom Rogers

Well, you are very right; it goes well beyond a DVR and we have very much pursued the TiVo service as one that gets consumers almost anything they want whenever they want it. Sometimes they may be recording, but a vast array of content, some 5 million pieces or more of content, that aren't available through cable or satellite.

And you're also right that the understanding of TiVo is too much focused as a DVR and not enough focused on all these new features, content elements and other things that provide a broad media center experience of which the DVR is only a part.

As we've talked about before, third-party marketing relationships that we enter into are about trying to drive that understanding and perception without our having to heavily shoulder the cost of the marketing that it would take to turn the understanding of TiVo from a DVR to TiVo being a DVR plus everything else.

And one of the great things about the Best Buy relationship is you couldn't ask for a better third-party partner to shoulder the broad marketing understanding of just everything that TiVo has to offer and all the strategic elements that Best Buy pointed to in our announcement of that relationship with them went very much to driving that part of the understanding of what TiVo does. So we're quite hopeful as that relationship unfolds the issue you're speaking to will be much better addressed.


Your next question comes from Tuna Amobi - Standard & Poors.

Tuna Amobi - Standard & Poors

I won't ask about AT&T and Verizon because I don't think you're going to comment on that, as you indicated, but I wanted to get some clarification on the Patent Office's latest actions. It certainly seems that the most recent series of rulings in August, this summer, has thrown some more confusion or uncertainty regarding the potential timing of a final action from the Patent Office. And it seemed to me back in November 2007, I believe, when they had that initial ruling that that was pretty much setting the tone of where this was going, but closer events seem like its taking a twist of kind of a reexamination of a reexamination.

So I think right now the length of the whole process, it seems uncertain. Do you think that in and of itself the outcome of that action is likely to somehow affect the final disposition of your case with Echostar and potentially AT&T and Verizon as well, and wouldn't you rather have had a final conclusion, final action, before embarking on the latest lawsuit with AT&T and Verizon?

Tom Rogers

Well, you're right that it has created confusion and the reason it creates confusion is that the Patent Office procedures are unusual and not well understood. Once you've put them in context, it really doesn't suggest any great uncertainty.

We have not presented our case yet to the Patent Office. The way the Patent Office works is they issue their finding here and then we are able to now come in and present our substantive case. We did that last time. We turned around the same notion, the same kind of ruling, and turned it into a full affirmation of our patent. When we get the opportunity now to come in and present our substantive case, we fully expect once again we will have a full affirmation of our patent.

This has no impact on the existing litigation with Echostar. These operate on separate tracks. It's nothing relative to the pursuit of our case against Echostar when Echostar brought a similar action during the pendency of the lawsuit a couple of years ago. So these things really involve separate processes, separate tracks, and we've dealt with this before. We have every confidence having dealt with it before we will deal with it this time again.

It's unfortunate that the Patent Office process creates the confusion it does. I wish that weren't the case. But it is what it is and it has not created any substantive issue that we haven't been able to deal with.

Tuna Amobi - Standard & Poors

I'd like to get your comment on any potential timing for the final action.

And then separately, to my next questions on the guidance, perhaps some perspective on share-based compensation to help us put the guidance in perspective - would you expect to stay on the current run rate of share-based compensation?

And lastly, another housekeeping question on the HD DVR from DIRECTV. Assuming that a subscriber upgrades, an existing DIRECTV subscriber upgrades to the new HD DVR, I'm presuming that would not be counted as a new subscriber. Am I correct?

Tom Rogers

I'm not sure what you mean by that last question.

Tuna Amobi - Standard & Poors

I'm just saying if you have an existing subscriber, a DIRECTV subscriber, under the current user base upgrade to the HD DVR, would that be included as part of your MSO broadcaster's net incremental subscriber or would that pretty much be a wash?

Anna Brunelle

I'll take that one.

I think that what you're referring to is if a DIRECTV subscriber that we have now becomes an HD subscriber, how would we report that subscriber in our subscriber count. So if I have you correct, then we would be reporting that as a net number.

Tuna Amobi - Standard & Poors

Okay, that was my question.

Derrick Nueman

The key thing here is obviously when somebody gets the new TiVo HD DVR, it's a better economic situation for us.

Tuna Amobi - Standard & Poors

Okay. And the share-based compensation?

Tom Rogers

Our share-based compensation has been in the $6 to $7 million range a quarter for awhile now and we don't see any change in that overall range.

Tuna Amobi - Standard & Poors

And lastly, Tom, not to beat a dead horse on that earlier question, any final action expectation of timing on the Patent Office? Is it something like a drug, another year, or do you expect that to be resolved in the much nearer future?

Tom Rogers

We don't speculate on timing of court process or timing of government process. As we get understandings of those things we share them with you, but we don't speculate on them.


Your last question comes from Todd Mitchell - Kaufman Bros.

Todd Mitchell - Kaufman Bros.

In regards to your comments on not pursuing international deals with middleware, a two-part question on that.

It seems to me that middleware per se is not a bad environment to launch an app like TiVo so much as the middleware that U.S. cable companies are trying to deploy. Is there, to the best of your knowledge, a market difference in the way that some of the historical middleware providers such as NDS and Open TV have architected their DVRs that they may or may not infringe as much or not at all or totally on your patents like the Motorola and SA boxes do?

Tom Rogers

Well, you've certainly brought two topics together in a way that I'm not sure I can answer. We're not going to comment on our patents relative to various technology or implementations.

I will say I was not making a general comment about middleware and our desire or lack of desire to pursue implementations that involve middleware. We are looking to pursue distribution opportunities where the pass is as direct as possible and as expeditious as possible. Ones where our hardware and software are most involved are the best example of that. There certainly are opportunities with certain middleware providers where the path to deployment looks like it could be relatively near term

We're looking to avoid international opportunities, say, where a combination of middleware and older cable plant infrastructure and the specific combination of attributes that would make for, in our mind, a delayed and more challenging environment for the implementation of TiVo, and those are ones that we would certainly de-prioritize relative to other possibilities and other conversations.

But I certainly didn't want to leave the impression that middleware is something we're looking to avoid. That would not at all fit with how we view the many possibilities for implementing TiVo.

Todd Mitchell - Kaufman Bros.

And then perhaps coming at it from a different angle, just in terms of your patent portfolio, how would you evaluate the patents that you have in U.S. jurisdictions vis-à-vis the patents you have in international jurisdictions? Are they duplicative or deeper or less deep? Can you qualify that in some way?

Tom Rogers

I'll turn it to Matt Zinn, our General Counsel.

Matt Zinn

We're not going to characterize the deepness of our patents internationally versus domestically other than to say that for our patents that we consider important internationally we file them internationally.

So there may be some similarities, but the claims don't necessarily get drafted exactly the same or cover exactly the same. We tend to tailor things for international markets.

Todd Mitchell - Kaufman Bros.

And then a couple of housekeeping. You've talked about DIRECTV and the economics, sort of the fixed payments to TiVo, but you haven't addressed is there any sort of SAC associated with a DIRECTV HD customer and how would that compare to an O&O customer and how would that compare to a cable license customer?

Tom Rogers

Our distribution deals with mass distributors generally are ones where the benefit to us is not having to pursue any SAC as part of the relationship. The subscriber acquisition and the marketing expense is something that the distributor drives forward. As we announced at the time of the DIRECTV deal, there are very significant marketing obligations that DIRECTV has under that deal. That's one of the great benefits to us as we look to avoid substantial growth in our SAC costs of mass distribution opportunities, DIRECTV prime among them.

Todd Mitchell - Kaufman Bros.

And last question - and I realize I could probably go look this up - but could you just tell me the inventory writedown benefit from this quarter we're going into last year?

Anna Brunelle

Third quarter last year?

Todd Mitchell - Kaufman Bros.


Anna Brunelle

I believe it was about $1.4 million.


This does conclude the question-and-answer session. For closing remarks I'd like to turn the conference over to Tom Rogers.

Tom Rogers

Well, thank you, everybody, again for joining us on a late summer afternoon.

I think I'd sum up what we're doing here as continuing to build our future distribution opportunities, create a number of additional growth catalysts, and very much defend our core technologies.

Thanks, everybody, for joining us. We'll speak to you soon.


Ladies and gentlemen, this does conclude today's conference. We appreciate your participation.

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